Here, at Century 21 Coastal Lifestyles, we are dedicated to giving investors great opportunities to build wealth and save taxes. Tax deferring allows real estate investors to sell property without paying any capital gains as long as the investor reinvests his or her profits into another property. Not only is tax deferring a great way to invest without paying taxes, it is also a great way to grow your finances over time. What is even better about tax deferring is the fact that any investor, big or small, can use this to his or her advantage.
How does 1031 Tax Exchange work?
In a typical transaction, the property owner is taxed on any gain realized from the sale. However, through a Section 1031 Exchange, the tax on the gain is deferred until some future date.
Section 1031 of the Internal Revenue Code states that no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business, or for investment. A tax-deferred exchange is a method by which a property owner trades one or more relinquished properties for one or more replacement properties of "like-kind," while deferring the payment of federal income taxes and some state taxes on the transaction.
What are the benefits?
A 1031 exchange is one of the best techniques available for postponing or potentially eliminating taxes due on the sale of qualifying properties. By deferring the tax to a qualifying property, you have more money available to invest in another. In effect, you receive an interest free loan from the federal government, in the amount in which you would have paid in taxes. Also with tax deferring, any gain from depreciation recapture is postponed.
What qualifies as a valid exchange?
Certain types of property excluded from Section 1031 treatment: any properties held primarily for sale, inventories, stocks, bonds or notes; other securities or evidences of indebtedness; interests in a partnership; certificates of trusts or beneficial interest; and choses in action. If the property d fall into any of the excluded categories then it is eligible for a 1031 exchange.
Who do I contact about considering a 1031 exchange?
Any of Our Agents will be glad to assist you with any of your questions or concerns. We look forward to helping you in any way we can. You can contact us via email at firstname.lastname@example.org or call us toll free at 877-467-2021.
New PLR 200616005 on Related Party Exchanges -
An exchange may be made with a related party; however IRC Section 1031(f) imposes restrictions on such exchanges. Subsection (f) which was added to IRC 1031 in 1989 denies non-recognition of capital gain if either the related party or exchanger disposes of the property received within two years of the date of the last transfer which was part of the exchange.
In 2004 the IRS advised PLR 20044002 that a taxpayer could acquire a replacement property from a related party if the related party seller was also doing an exchange. The new PLR 2006160005 reinforces this IRS position. In addition, the IRS ruled that if the related replacement property seller was unable to acquire the sufficient replacement property and received boot from the Qualified Intermediary, it would not destroy the exchange. The related party seller would only recognize gain on the boot received. The IRS also stated that both the property received by the taxpayer and the replacement property received by the related property seller would have to be held for two years after receipt.
It is now clear that if exchange properties are held for two years that:
First, a taxpayer can do a related party direct exchange. A direct exchange occurs when the parties swap properties directly with each other. This normally occurs simultaneously and may involve a Qualified Intermediary.
Second, a related party can purchase the relinquished property. This is normally a deferred exchange using a Qualified Intermediary, with the exchanger buying the replacement property from an unrelated party.
Third, if the related party seller of the replacement property is also doing an exchange, then the replacement property may be purchased from that related party.
However, regardless of the time the exchanger holds the new replacement property, or the use of a Qualified Intermediary, it is clear from previous revenue rulings that purchase of the replacement property from a related party who is not also doing an exchange may result in the IRS disallowing the exchange. Taxpayers should avoid the purchase of the replacement property from a related person not also doing an exchange.
A "related person" means any person bearing a relationship to the exchanger as set forth in IRC 267(b) or 707(b)(1) and explained in IRS Publication 544. For example, under these rules related parties include you and a member of your family (spouse, brother, sister, parent, child, etc.); you and a corporation in which you have more than 50% ownership; and you and a partnership/LLC in which you owe more than a 50% interest. An in-law, aunt, uncle, cousin, nephew, niece, or ex-spouse is not a related person. You should consult with your tax adviser if there is any doubt as to the related person status of the seller of the replacement property.
Starting in 2006 the annual Gift Tax Exemption is $12,000. This is the annual amount you may give to another person without incurring gift tax or a reduction in your federal gift tax exemption. The federal lifetime Gift Tax Exemption remains at $1 million dollars.
Second Home Investors Were Busy in 2005
In 2005 four out of ten residential transactions involved a second home purchase. According to the National Association of Realtors, there were 3.34 million second home sales in 2005. Of all the homes purchased in 2005, 27.7 percent, or approximately 2.3 million, were for investment. How many of these will become 1031 exchanges in the future?
Use of Auctions in a 1031 Exchange
Historically, as the real estate market slows there has been an increase in the use of auctions. The 1031 exchanger can use an auction to sell the relinquished property or purchase a replacement property. The 45-day identification period and 180-day exchange period start as usual on the date the relinquished property is transferred at settlement to the winning bidder. Normally, the exchanger will bid on a replacement property before the end of the 45-day identification period. If the exchangers bid is the winner, then the signed announcement becomes the contract. It is assigned to the Qualified Intermediary and action is taken to go to settlement as quickly as possible. After assignment to the QI, exchange escrow funds can be used to make any additional deposit. It is important to remember that even when using an auction all the exchange documentation - the exchange agreement, assignment and notification of assignment ? must be in place before settlement and transfer of any exchange property.
Capital Gains Extension
The President signed the Tax Reconciliation bill (H.R. 4297) to extend the 15% capital gains tax rate through December 31, 2010.
Guam and the Northern Mariana Islands
Section 1.935-1T of the IRS Regulations now provides that citizens, residents or those with income from Guam or the Northern Mariana Islands will be authorized to conduct Section 1031 exchanges. Thus, for example, if a U.S. taxpayer exchanges real property located in the United States for real property located in Guam or the Northern Mariana Islands, such exchange may qualify as a like-kind exchange under Section 1031.
Article courtesy of Realty Exchange Corp.